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New '89-11' loophole to avoid real estate tax pops up

| Saturday, Dec. 29, 2012, 12:01 a.m.

Close one loophole and another opens.

Pittsburgh and school district officials, along with state Sen. Jim Ferlo, D-Highland Park, want to end a practice that enables an investor to buy an entity owning a single building, instead of the real estate, without recording the change in ownership.

“We plan to sit down in January ... to work out a solution to this practice that has caused the loss of millions to the city and school district,” said Ira Weiss, the Pittsburgh Public Schools solicitor.

The rise in use of this “one-building” loophole follows the closing of another this year by the state legislature.

Ferlo considers the elimination of the “89-11” loophole “a major victory,” though he wanted it to take effect before the scheduled date of Jan. 1.

That loophole in the state tax code allowed buyers of office buildings to avoid paying real estate transfer taxes by purchasing 89 percent of a building. After three years, the buyer could purchase the remaining 11 percent.

Ferlo said he and Weiss will meet with city Controller Michael Lamb to devise a strategy to close the new loophole. It might be tougher to accomplish because he believes Republicans controlling the legislature are not concerned about holding companies owning properties.

“But legislators, regardless of party, are interested in tax fairness, tax equity and tax uniformity,” Ferlo said.

Lamb noted that “every time we close a loophole, the buyers find another loophole.”

Weiss pointed to the recent purchase of EQT Plaza, Downtown, by Highwoods Properties Inc. of Raleigh and the recent sale of the Del Monte Building on the North Shore as examples. Buyers purchased the entity owning the buildings and avoided paying tax.

Highwoods acquired 100 percent of the EQT Plaza owner, Liberty Avenue Mezzanine LLC, a Delaware holding company. It paid $99.2 million, including $8 million toward making improvements, according to Highwoods CEO Ed Fritsch.

If transfer taxes had been required, they would have totaled $3.97 million. The state would have reaped about $992,000; the city, $1.98 million; and the school district, $992,000.

“The only way to acquire the building was to buy the holding company. There was no deed for us to acquire,” Fritsch said.

An 89-11 transaction was used in the Del Monte sale, although Barry Ford, vice president for development for Continental Real Estate Cos., said only that KKR, a New York based investment company, acquired a portion of his firm's ownership interest, which is how 89-11 works.

Lamb said lawmakers need to look at how investors escape paying transfer taxes by buying a company set up just for the purpose of owning one building.

“We want to work with the state legislature to close this loophole but not stop a legitimate sale that meets the law that permits nonpayment of transfer taxes,” he said.

A legitimate sale would include government purchase of property for its use, a lender acquiring a property on which it foreclosed at a sheriff's sale, or the purchase of a note on a building “in lieu of foreclose.” Gifts and dedications of real properties to universities are tax-exempt, but if universities sell properties — even to each other — that sale is taxable.

Ferlo was a leader in persuading the state legislature to close the 89-11 loophole. It was used in the 2010 purchase of the 64-story U.S. Steel Tower, the region's tallest building, by a group of New York-based investors headed by Mark Karasick, who paid $250 million for the building but paid no transfer taxes.

The Jan. 1 deadline on closing the 89-11 loophole resulted in several purchases of buildings in Pittsburgh, officials said.

Sam Spatter is a staff writer for Trib Total Media. He can be reached at 412-320-7843 or sspatter@tribweb.com.

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